Shorting
Shorting is a means to making money on a down trend. It is the most misunderstood and underutilized technique in trading. Professional traders use it, but nine out of ten investors have never even tried it. The excuse that most investor have to avoid short selling is that stock prices have no upside limit. If you a buy a stock and the stock goes to 0, the most you can lose is 100%. On the other hand, if you short sell, your risk is endless as the stock price can technically go to infinity. The sky is the limit. Of course, this never happens, and shorting rarely carries more risk than being on the long side. This misconception is what cripples most investors from trading like the pros.
When you are shorting, you borrow stocks from your broker or directly from the company, and sell it in hopes of buying it back at a cheaper price. The act of buying back shares and returning it to the owner is called short covering. You are obligated to buy back the shares and return it to the owner, even if your bet goes against you. For example, if you short sell 100 shares of XYZ at $50 ($5000) and buy it back at $40 ($4000) you have made a $10 profit from each share which is $1000. Unlike popular belief, short selling doesn't present any greater risk then buying.
When you are shorting, you borrow stocks from your broker or directly from the company, and sell it in hopes of buying it back at a cheaper price. The act of buying back shares and returning it to the owner is called short covering. You are obligated to buy back the shares and return it to the owner, even if your bet goes against you. For example, if you short sell 100 shares of XYZ at $50 ($5000) and buy it back at $40 ($4000) you have made a $10 profit from each share which is $1000. Unlike popular belief, short selling doesn't present any greater risk then buying.
Some people in the investment world will tell you that shorting is un-American as you are betting a business not to do well. Do you really want to limit yourself to being a cheer leader of a company when the market goes down almost half the time? I don't. I don't consider myself as an investor that buys and holds forever. I am there to trade the market moves, and make money.
If you short sell; always use a buy stop. Place the above your entry price above resistances just as you would place a stop loss to prevent the downside risk on the long side. It's very important understand that when you short sell, you can lose more than what you have in your account. Never short penny stocks. Prices can go up several folds a day. I don't recommend you to buy penny stocks either; your chance of winning is as low as owning a lottery ticket. The ideal time to short sell is to short sell after rallies in a bear market as it starts to show weakness. If you short sell in a bull market, you have to be nimble (short term trades), and sell overbought stocks. Bollinger Bands and stochastics are a good way to do this. |
I want you to follow a few guidelines when you are short selling. Don't short sell companies just because they have run up too high and you think are over-valued. Growth companies have a large premium. You need to understand that the price of a stock maybe high but it is what people are willing to pay at the time. It might roll over one day but usually long after you've been squeezed out of your short positions for losses. Don't trade stocks that are too thin in volume. Look for stocks that are underperforming their sectors. It is especially helpful to short sell when the overall market such as the major indexes are in a downtrend. Look for breakdown patterns.
Look at the first chart below, there are two very obvious entries. The first, when the short term support was broken after a fake out turned into a break down. On the second entry, the price was rejected very strongly from the 20 ema as seen from the long bearish candle and broke another support.